If you are like most small business owners, accounting likely is not the reason you got into business, but understanding your key financial statements can significantly impact the long-term success of your business.
Typically, small business owners can be categorized in three ways: 1) Those who have their financial statements in order and use them to run their business more efficiently; 2) Those who understand financial statements but do not have time to keep them up to date; and 3) Those who do not understand their financial statements and are unsure how to use them to help run their business.
Regardless of which category you fall into, it is never too late to gain a better understanding your business’ finances. In this guide, you will learn about the top three financial statements that every small business owner can use to efficiently operate their business.
Top 3 Financial Statements for Small Business Owners
There are a variety of financial statements that small business owners can use to understand the fiscal health of their business, but the most essential statements are 1) balance sheet, 2) income statement, and 3) statement of cash flows.
1) Balance Sheet
Sometimes referred to as the statement of financial position, the balance sheet is the foundation of financial statements. It illustrates your business’ assets, liabilities, and equity at a given moment, which can help you account for other costs like employee wages and supplies.
What’s it used for? By tracking all these areas, you can understand the “balance” of your business – the approximate cash value. The balance sheet can be used to value stock among internal partners. Externally, parties may ask to see your balance sheet; for example, when potential lenders want to assess your level of risk.
What are the key components within the statement?
Equity = (Total) Assets – (Total) Liabilities
2) Income Statement
Also called a profit and loss statement (P&L), statement of income, or statement of operations, the income statement shows the revenues, expenses, and profit or loss of the business over a set period of time.
What’s it used for? The income statement shows the profitability of a business’ current operations. Understanding a business’ income statement stands can help you decide how to operate the business (i.e., expansions or reductions in certain areas) to increase profits. It can also aid decision-making around needs for capital and loans.
What are the key line items within the statement?
3) Statement of Cash Flows
Also known as cash flow statement, this statement provides a detailed view of the cash inflows and outflows over a specific period of time (monthly, quarterly, or annually). It shows the funds that arrived in the accounts of the business, i.e. where the business stands on a cash basis. This differs from the income statement, which shows the income a business has generated or lost on an accrual basis.
What’s it used for?
The statement of cash flows can be used to understand how much cash is available to cover expenses and/or invest in the business. If there are significant differences between the statement of cash flows and the income statement, it can indicate operational issues (e.g. unpaid accounts receivables).
What are the main parts of the statement?
Why is it important to keep an eye on your business’ financials?
Mastering these three key financial statements can ensure you know the true status of your business at any point in time. Knowing your business’ financial standing can help avoid surprises, prepare to weather financial storms that may be ahead, and know when to look for outside help (like funding from a small business loan).
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